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Border Tax Could Upend Global Markets, but Investors Shy Away From Any Bets

Dollar could rise by 25% and oil to $65, economists say, under President Trump’s proposed policy

An aerial view of the urban fencing on the border between the U.S. and Mexico near the outskirts of Tijuana, Mexico. Republicans propose a border adjustment, which would tax imports at a rate of 20% while exempting exports.
Photo:
MARIO VAZQUEZ/AFP/Getty Images

A Republican tax plan has analysts predicting seismic shifts in global markets, from a double-digit surge in U.S. oil prices to the strongest dollar since the 1980s. But so far, few investors are willing to bet on it.

Markets are struggling to size up the far-reaching impact of the so-called border adjustment, which would tax imports at a rate of 20% while exempting exports. The aim is to make the U.S. a more attractive place for businesses to invest, while also raising $1 trillion to offset Republicans’ proposed tax-cut plans.

Markets face big changes if the proposal becomes law. The dollar could rally by 25% to levels not seen since the 1980s, according to economists including Harvard University’s
Martin Feldstein.
U.S. oil prices could surge to $65 a barrel from a recent $54,
Goldman Sachs
analysts project, reflecting a sharp tightening in the supply-demand balance in the U.S. market. The Federal Reserve’s preferred inflation gauge, the personal-consumption-expenditures price index, could jump to 2.4% or higher from a recent 1.6%, by Goldman’s estimate.

“The border tax is the biggest policy story in years,” said
Greg Anderson,
global head of foreign-exchange strategy at BMO Capital Markets.

Yet investors have been hesitant to bet on these moves, in part reflecting significant uncertainty over whether a border adjustment will become law or what form it might take. The proposal has faced criticism from both U.S. companies and politicians in recent weeks. Republican lawmaker
Kevin Brady,
one of the architects of the proposal, has said he is listening to objections and looking at ways to smooth the transition for taxpayers.

Goldman Sachs analysts said last month that pricing in global oil markets reflected just a 9% chance of the border adjustment becoming law.

President
Donald Trump
has expressed concern about the tax plan, calling it “too complicated” in an interview with The Wall Street Journal in January. The administration has since said a border adjustment is one option for paying for Mr. Trump’s proposed wall on the U.S.-Mexico border, but skepticism remains on Wall Street.

“The tax doesn’t seem to be on the first round of the administration’s priorities,” said
Alvise Marino,
a foreign-exchange strategist at
Credit Suisse.

On Thursday, Mr. Trump said he would make an announcement that would be “phenomenal in terms of tax” within the next three weeks.

Still, uncertainty over tax policy has weighed on the dollar, which has fallen 2% this year against a basket of major peers, relinquishing roughly half its postelection rally.

The border tax is expected to boost the dollar because U.S. companies, now exempt from taxes on their exports, would be able to sell more products abroad. When foreigners buy U.S. exports, they must buy the U.S. dollar and sell their local currency, driving the U.S. currency’s value. At the same time, the tax could reduce U.S. appetite for foreign goods, which would curtail demand for foreign currencies and boost the dollar.

Advocates say the dollar would likely rise enough to offset the proposed tax, citing how currencies responded to similar tax systems abroad, so consumer prices would remain steady. For example: a 20% import tax on car parts made in Mexico would be met with a similar depreciation in the Mexican peso, so prices would remain stable for both importers and consumers.

But many analysts warn that these projections are based on economic theory. In the real world, the dollar likely wouldn’t rise quickly or high enough to offset negative impacts.

Daragh Maher,
head of U.S. foreign-exchange strategy for
HSBC Holdings,
said the value of the dollar and other foreign currencies is driven mostly by demand for assets such as stocks and bonds. Trade makes up only 1.4% of daily trading in the U.S. dollar, according to HSBC.

Analysts say some companies could choose to move jobs and production back to the U.S., as the import tax would temper the cost savings from outsourcing.

“These firms moved their operations to a place like Mexico because it was cheaper to build things there,” said Mr. Marino. “The tax is supposed to make these firms indifferent between using their Mexico facilities and making things in the U.S.”

A tax would be especially painful for emerging-market nations such as China, the U.S.’s biggest trading partner. In addition to diminished demand for its exports, the dollar’s strength would add to downward pressure on the Chinese currency, the yuan.

Credit Suisse estimates that a border adjustment would reduce merchandise exports from Asia by 3% to 4%, denting the region’s growth by around 0.5 percentage point.

“Less global trade, whether through a border tax adjustment or something else, is bad for Asia,” said
Eric Stein,
co-director of global income at
Eaton Vance.

A border adjustment would likely benefit Mr. Stein’s bets against the Singapore dollar and Chinese yuan, as well as his positions in a type of Treasury bond that protects against U.S. inflation.

Border Bets

“Lots of the policies of the Trump administration are inflationary, and this is one of them,” said Mr. Stein.

U.S. corporations that depend on imported products say the plan will force them to raise prices and lay off workers. A group of over 100 companies including
Wal-Mart Stores Inc.,Target Corp.
,
Nike Inc.
and
Gap Inc.,
launched a group called Americans for Affordable Products to lobby against the tax. The plan could also face challenges under World Trade Organization rules, analysts say.

In a statement, Nike said it plans to work with the Trump administration and with Congress “to explore alternatives to meet the goal of growing the U.S. economy and employment without the complexity and negative impacts of a border adjustment tax.”

U.S. exporters, including
Dow Chemical Co.
and Lockheed Martin Co., have praised the plan, which would likely bolster their overseas sales. “The border adjustment tax…will be, for us, a big positive,” said Dow Chemical CEO
Andrew Liveris
on an earnings call.